Valentin Haddad, University of California-Los Angeles
Alan Moreira, University of Rochester
Tyler Muir, University of California-Los Angeles
Abstract: We argue that quantitative easing (QE) and tightening policies constitute a dynamic state-contingent plan instead of a succession of independent interventions. This view changes the main reason QE is effective by adding an insurance channel to the static effect of absorbing bond supply in a given period. QE purchases occur in bad economic states (e.g., 2008-2009 or 2020) when the supply of government debt increases. Increasing long-term bond prices in bad economic states increases their safety, driving up their value and thus lowering ex-ante yields. We estimate that this insurance channel alone lowers long-term bond yields by 75-100 bps. This channel explains the prevalence of low long-term yields, low term premia, and low yield volatility since the introduction of QE, despite the sharp increase in net government debt supply. Consistent with a state-contingent channel, implied volatilities of long-duration risk-free securities fall substantially on QE announcements, even for options with maturities out to 10 years. We calibrate a policy rule for asset purchases to their historical path and include it in a quantitative term structure model. In the model, state-contingent QE offsets term premia fluctuations in long-term bonds. The insurance effect from this channel lowers long-term Treasury yields by 75bps ex-ante, which explains about 75\% of the total effect of QE on yields. The calibrated model matches both broad patterns in bond yields and the response to QE announcements.
Discussant: Lukas Schmid, University of Southern California
Abstract: This work proposes a framework to study the risk-benefit trade-off of quantitative easing (QE) for the consolidated government, integrating the central bank and treasury department. In a simple model with distortionary taxes, nominal frictions, and a zero lower bound, we characterize the optimal size of a QE program as equalizing the marginal benefit from stimulating output to the marginal cost of induced rollover risk for taxpayers. A conservative quantification of this trade-off suggests that QE programs in the US made a positive net present contribution to welfare.
Abstract: This paper studies the mediating impact of the maturity of public debt in the transmission of monetary policy shocks to economic activity. A longer debt maturity attenuates greatly the effect of monetary policy: going from the average historical duration of US debt to very short term debt doubles the impact of a rise of the policy rate on output. A similar result holds in UK data. Using data on corporate debt, spreads, investment, and fiscal variables, I show that these effects can be traced back to a quantitatively important financing channel. A model featuring an interaction between an empirically estimated primary market friction and a standard financial accelerator is able to account for these facts.
